Eurozone Wins Financial Respite, but it Could be Brief

With their late-night deal to cut Greece's debt and support other wobbly countries, European leaders bought time to work out more lasting solutions to the crisis plaguing the euro currency bloc.

How much time the markets will give them will depend, in part, on their speed and skill in filling in financial complexities of the debt swap and bond insurance plan they outlined.

Along with that, countries with sluggish economies, particularly Italy, will have to show that they are becoming better places to do business and improving growth — the key to paying down debt in the long run.

So the debt crisis is still far from over. But with luck the eurozone's 17 governments just might get a chance to work on it for a while without fear that a single misstep will take the shared currency over the edge.

That respite could be short, however, if they return to the fudges and procrastination that have so far marked their response to the crisis, which broke out two years and five days ago, on Oct. 21, 2009. That's when Greece admitted to the EU statistics agency that its finances were much worse than reported.

Since then, more than a dozen late-night summits and carefully negotiated and crafted statements have failed to get ahead of market fears that Greece would default on its debts and sink the banking system and the wider economy. The crisis also took down Ireland and Portugal, which like Greece were forced to take a bailout because they couldn't borrow affordably and faced default on maturing bonds.

Thursday's deal at long last appears to have met or beaten expectations for some kind of decisive action.

"The summit is likely to be the corner from where the odds start to change in the right direction," said Erik Nielsen, global chief economist at Unicredit.

The most difficult part of the plan was persuading banks to take 50 percent losses on their Greek bonds to help shrink the country's debt pile to where it can be repaid. European leaders then agreed to push Europe's banks to raise 106 billion euros ($151 billion) in new capital by June, to protect against losses from the Greek debt writedown. The money will come from governments if it can't be raised from investors or by selling assets.

Critically, the debt deal also beefed up the eurozone's underpowered bailout fund so it can convincingly prop up the bonds of bigger countries such as Italy. Supporting the bond prices will keep the countries' borrowing costs from rising, which is what sank smaller Greece, Ireland and Portugal.

The hope now is that the trio of measures will give European countries some breathing space within which to focus on getting their economies growing again. That would help reduce debt and boost confidence in the region's financial markets and banking sectors, reversing what had threatened to be a downward spiral.

It is clear, however, that such a virtuous cycle of events will prove difficult to get going.

To begin with, there are doubts on how the leverage of the eurozone bailout fund's limited resources will work. The European Financial Stability Facility would guarantee part of the value of bonds issued by countries such as Italy and Spain. The idea is to relieve fears of default and lower the interest rate investors want to help the countries roll over their debts.

Joerg Kraemer, the chief economist at Commerzbank, said it was not at all clear that such a guarantee — which essentially admits there are fears of default — will appeal to government bond investors, who typically want safe investments.

And the "voluntary" Greek writedown pushed on banks might convince some potential bond buyers that if there's more trouble, they'll be asked to pony up instead of being compensated through the insurance program.

If the insurance isn't enough to magnify the EFSF's power, governments may face having to kick in more financing for the EFSF. With publics annoyed at bailouts, governments will resist unless the fate of the euro appears once again at stake — meaning back to the brink.

"This alone suggests that the sovereign debt crisis will continue to become exacerbated before ebbing off," said Kraemer.

It's also not clear how long the European Central Bank will continue key purchases of government bonds, keeping borrowing costs down. The EFSF has the power to do that, but skimpy resources, economists say.

Others questioned whether Greece was getting enough debt relief to eventually get back on its feet.

The deal will cut debt to 120 percent of economic output by 2020, from 180 percent otherwise. Yet debt of over 100 percent of GDP is still breathtakingly high — high enough to make investors wonder about Italy, which is at 120 percent.

Longer-term, large trade imbalances remain between eurozone members, meaning big surpluses in countries like Germany will create deficits in importing countries like Greece. Without the safety valve of shifting exchange rates, that is unlikely to change soon.

And there is always the danger that governments will not properly implement the reforms they have promised. That has been a sticking point with Greece, which has been reluctant to cut jobs in the public sector, and promises to be an issue in other countries, like Italy, where labor unions are powerful.

Despite the host of questions, markets cheered the European leaders' plan. Stocks surged 5 percent in France and 4.7 percent Germany, the euro's core where banks are heavily exposed. Indexes in London and New York rose more modestly.

"Market participants in the U.S. and London are weary of eurozone problems," wrote Stephen Lewis at Monument Securities in London. "They would have been satisfied with any statement on debt that had enough substance to allow them to move on to fresh themes."

With their late-night deal to cut Greece's debt and support other wobbly countries, European leaders bought time to work out more lasting solutions to the crisis plaguing the euro currency bloc.How much time the markets will give them will depend, in part, on their speed...